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The US Government Comes Up Short Yet Again!

By Andy Shaw | January 23, 2010

Originally Posted 21st April 2008

I’m sitting in Cyprus at the moment and writing articles on the information that is coming to me via newsletter, as I have no news over due to the satellite dish being blown off axis (apparently). So last week I predicted some intervention by the US government and before I could publish the article they intervened…well I said things were moving fast.

Unfortunately as with any government action they have fallen far short of what is needed. Or to put it another way, if 100% action was needed to resolve the problem then 50% is all we will do.

Here are the major provisions of the bill that they are putting before congress, with my comments attached, followed by my solution to the problem, which does involve parts of their bill.
(PS This gets a little heavy going so may not be of interest to all :-) )

1. To assist homebuilders and other businesses (including banks) affected by the housing slump, there is a provision to expand the ability of these businesses to use current losses to offset past profits and recoup taxes paid in previous years. Presumably, this will mean that more of these businesses will be able to stay afloat.

This is probably the worst bit of all, the bill allows for homebuilders, banks and the mortgage companies that were involved in subprime mortgages to get back past taxes to cover current business losses. How does that benefit current homeowners? It doesn’t! Which lobbyist managed to get this tacked onto the bill? This will not stop in any way home repossessions, which was the purpose of the bill. This bill is being called The New Mortgage relief plan, maybe they should have looked at the name of the plan before sticking this bit in. This is why people think politicians are crooks, and this is why all good politicians end up being tarred with the same brush as these bad ones!

2. The bill also provides for a new standard property tax deduction of $1,000 for couples and $500 for single taxpayers who do not otherwise itemise their deductions for income tax purposes. Another tax provision would give a $7,000 tax credit spread over two years to those who buy and move into foreclosed homes! The goal of this tax benefit is to keep foreclosures from remaining vacant, which can lead to other problems such as further downward pressure on the value of nearby homes.

While this may sound nice but small, even at the maximum income tax rate of 35%, a $1,000 deduction will only net $350 (and it got smaller!) and that would be available only after income taxes are filed and a refund is received (and it’ll be worth less then as inflation takes its bit). I don’t think that many people have a monthly mortgage payment that low, and most subprime homeowners won’t be in the maximum income tax bracket. Thus, the “bailout” may help make a partial payment…one month…next year…in other words this is bl**dy useless!

Then, any new family buying the newly refurbished home may qualify for a $7,000 tax credit which, unlike the property tax deduction given to the homeowner, reduces taxes dollar-for-dollar. So??? If the purpose of the bill is to help individuals struggling with subprime mortgage loans, I have to ask why this huge tax benefit is not given to the original homeowner! If the goal is to prevent a glut of vacant housing, aren’t the original owners just as good at this as new owners? There is something else going on here, or the politicians are just downright stupid. What a con!

3. The bill also includes other provisions aimed at preventing the blight that might accompany a glut of foreclosed or abandoned homes. $4 billion in block grants were authorised so that communities will be able to buy and refurbish vacant homes, as well as $10 billion in federal tax-exempt bonds designed to provide mortgage resources to lower income first-time home buyers, as well as a way to refinance existing subprime mortgages.

So after they have lost their homes the original homeowners may get some comfort knowing that their local government can use some of the $4 billion in grant money to buy and refurbish their home for resale! Morons! But I bet there’s a good reason for them doing this. I’m sure one of the senators business interests gets to benefit from this otherwise next to worthless idea. As for the $10 billion, talk about a drop in the ocean!

4. Next, the bill makes another $100 million available to provide counselling for homeowners who are facing financial problems and possible foreclosure. Supporters of this provision claim that such counselling can help to avert foreclosures for many.

I agree that this could be useful, but the problem is they won’t be able to give the advice needed to really help them survive, it’ll just be text book stuff. Still any financial education is a good thing. But if people simply do not have the money then counselling won’t help, and frankly this sort of thing should already be available right now, so the fact that it isn’t is a testament of bad governing.

5. For returning war veterans, the bill extends the length of time a lender must wait before initiating foreclosure proceedings from three months to nine months after the veteran’s return.

Americans love their armed forces, which I think is a good thing but is it really just a way of educating the future generations that if you serve then you are a better class of citizen – subliminal?

6. Finally, the bill contains a broad re-write of the Federal Housing Administration (FHA) law that raises the dollar limit on mortgages that FHA can insure from $362,790 to $550,000. The limit had temporarily been raised to $729,750 by the economic stimulus bill, but the increase in the mortgage bailout bill will be permanent.

This is good, as it is a move in the right direction. Don’t see it helping many people facing imminent repossession though.

Personally I think if 100% action was required then they haven’t got close to doing 50%, they have just produced something that they can now hang their hat on and say, ‘well we did put that bill through congress’. These politicians are fiddling while their economy is burning. This is a big mistake not to have included some or all of what was cut out. This is far, far too little, far too late. They will achieve less than 10% with this waste of time. They need to take appropriate action or American will fall into depression, and a worldwide recession will become a certainty. I was hoping they would take good appropriate action, but clearly they do not understand where their inaction will take the economy.

Here are some of the things that were left on the cutting room floor that should have been in the bill, still hopefully they’ll add them in amendments as the crisis continues to get worse:

There was going to be a provision that would have allowed bankruptcy judges the power to cut interest rates and principal balances on problem mortgages to help subprime borrowers keep their homes. Current bankruptcy law allows judges such leeway on investment properties and vacation homes, but not on primary residences.

Now this isn’t the complete answer but this would solve 80% of the crisis, and therefore would effectively solve the crisis, it does hurt the mortgage companies, but then they caused the problem by their inappropriate lending so they should be the ones that pay.

However, the bankruptcy provision was met with stiff opposition from Republicans and the mortgage banking industry (what a surprise!). They say that allowing bankruptcy judges to modify the terms of primary residential mortgages would require the mortgage industry to factor that contingency into their pricing, potentially increasing the costs of mortgage borrowing for everyone. They argue that the last thing the housing industry needs is another impediment to obtaining a mortgage loan.

They are desperately trying to stop this provision and they have for now, as this is clearly what would undo their inappropriate actions, so now they are spinning it to say they will have to pass costs on to everyone and they will have more difficulty loaning in the future – two things that are an easy argument to prove (even though it’s not necessarily true) and very difficult to disprove (they are the arguments I would probably have come up with – they have a good lobbyist working for them)

Another provision that didn’t make it was one supported by House Member Barney Frank that would have expanded the FHA’s (Federal Housing Administration) ability to provide foreclosure assistance by providing $300 to $400 billion in new loan guarantees. Democrats are expected to re-introduce these two provisions in future bills, or maybe even as amendments to the current bill before its final passage.

This bit really would have helped ease the pain (but needed a lot more money) whilst the economy starts to show signs of recovery and then goes on to actual recovery, if these two cuts had made it into the bill, then there is a good chance if the bill had been pushed through really quickly (and I mean fast) that this would have reversed the situation. As it stands this bill will do nothing to hold back the tide and is a disgrace. The problem is that by the time they change their minds and add these things in, which they will almost certainly have to, then time will have passed and the situation would have gotten worse and these two items won’t be enough to hold back the tide. I’m sticking a stake in the ground here and I’m going to say later that I told you so.

This lack of action is not good news for us or the world as a whole, as I said in a recent article; a new administration was probably needed to take the action necessary to survive. The trouble is they won’t be in until January, so the chance of them getting anything through by this time next year is very unlikely. And frankly, the damage will have been done by then and a year delayed here will probably cost two or three added to the end of a recession.

On to how to solve it

There are different grades of mortgages obviously and I am going to simplify the solution here, as there would have to be some recourse and some variations. So what I’ll do is take the middle ground with say the occasional missed payment whilst in the teaser rate.

As they come to the end of their teaser rates the Fed should step in and offer to guarantee loans to these people. Therefore, lenders can now lend on these deals, and they should offer a 7 (less is too risky in the current American market) – 10 year fixed mortgage at say 1.25% – 1.75% above US rates. If people still default on that deal then they should be allowed to fail on their mortgage.

As the mortgage lender is now protected and can make a profit then they can get their money for the deal from the money markets, as with a Fed guarantee, then the money market will be confident to lend. The homeowners can now pay and stability will start to return to the market.

There should be some sort of fine to the original lender who lent on a no documentation loan when it fails at a figure of say $10,000. This goes to a fund to provide the local councils with capital to refurbish and sell on the property. This will hurt the lenders but will hurt them less than the current crisis is doing. This will stop future high risk borrowing as lenders won’t want their fingers burned. If a lender persists in getting their fingers burned then they should have a 3 strikes and you are out policy (obviously very over-simplified :-) ).

There should be a government funded body set up to look into the affordability of redemption penalties – needs a realist at the helm! This is specifically to cover ‘overhang’ loans where people are offered a discount rate for 2 years but redemption penalties for 5 (personally I think these should be banned outright). Then the body has the right to reduce or remove the redemption penalties. Or if they think the borrower should be allowed to refinance then they halve the redemption penalties and add them to the new loan (with a new lender) and the Fed secures it.

The barriers should come down on lending and be based on affordability and not 3, 4, 5 times the income. If a borrower locks into a 10 year fixed rate at 4.25% then they can afford say 10 times the income for example and this should be taken fully into consideration when lending. The percentage of their income used to service a loan on that affordability basis will still be less than 3.5 times the income on a 13% loan – or thereabouts :-) .

If some people still can’t pay the full amount of their mortgage, say up to 25%, then the Fed should step in and make the payment, or a new lender with a Fed guarantee makes the payment. Interest should be allowed to roll up, and be added to the principle sum (or both). Or the Fed begins to take a small percentage of home ownership and carries a further Fed base rate loan (the percentage the Fed owns is increasing as they make the balance of the payment to the lender monthly) and the person be given the remainder of the new 10 year loan to repay the Fed by refinancing, if possible, or they sell the home when the market has recovered.

This won’t appeal to all, but may appeal to most ordinary people. The management of all of this should be done by people who have nothing to gain from it (that’s the difficult bit). This does not get over the political problem of helping out those that have lied on their mortgage applications, but it will stop the crisis dead and return confidence to the market. In which case we live to fight another day!

Unfortunately they won’t do this as that would solve the problem and they only ever want to do 50% of what is needed. But I think there will be some amendments to the bill as things get progressively worse over the next few months.

So lets wait and see what happens next as, for all I know, sitting here in Cyprus watching the sun come up and looking forward to another day of temperature in the high 20’s, the Fed may have already changed the rules of the game once again while I’ve been writing this.

Best wishes

Andy

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